Chapter 7 INVENTORIES Importance of accounting for inventory Physical inventory Costing inventory INVENTORY COST FLOW METHODS Cost of inventory must be allocated between units sold during period expense and units left on hand at end of period asset Problem Counting the number of items on hand at the end of the period is relatively easy Sometimes though the same item purchased at different times will have a different cost So how do we assign a dollar cost to the units left in inventory and a dollar cost to the units sold during the period Solution inventory cost flow methods 1 specific ID method 2 weighted average method 3 FIFO 4 LIFO NOTE The cost flow method chosen does not have to match the company s physical flow of goods Example Inventory cost flow valuation methods Units Beginning inventory Purchases Oct 2 Oct 5 Oct 21 10 8 5 7 Purchase price per unit 5 6 9 10 Total purchase 50 48 45 70 213 Ending inventory 12 Determine the dollar amount that will be assigned to the ending inventory and cost of goods sold using a weighted average method b FIFO c LIFO Comparing inventory cost flows methods FIFO LIFO OTHER INVENTORY ISSUES 1 Inventory errors Example Inventory Errors Aggie Company s accountant prepared the following income statement for the year ended December 31 2014 Sales revenue COGS Beginning inventory Net purchases Goods available for sale Ending inventory Cost of goods sold Gross profit Other expenses Net income 40 000 12 000 18 000 30 000 5 000 25 000 15 000 8 000 7 000 However the company s accountant later learned that ending inventory was accidentally overstated by 500 1 What is the correct amount for cost of goods sold and gross profit 2 How would the error described above affect Aggie Company s cost of goods sold and gross profit for 2015 if the error is not discovered and corrected 2 Lost stolen items and inventory shrinkage 3 Lower of cost or market 4 Estimating ending inventory may be necessary for Example Gross profit method of estimating ending inventory Doyal Banana Company owns a warehouse in Houston Texas The warehouse is located near railroad tracks to allow for easy access to shipping Recently a traveling circus was traveling by train to their winter home in Florida when the train derailed Fortunately there were no fatalities but the car that housed the circus s monkeys was damaged and all of the monkeys escaped They then broke into the Doyal s Warehouse and ate the entire contents Doyal has the following information available Beginning inventory Purchases Sales to date 400 900 1 600 Last year Doyal reported sales of 7 000 and gross profit of 2 100 Estimate the dollar value of the inventory destroyed by the monkeys Using inventory information Inventory turnover